RBI to cut rates by another 25 basis points this year: DBS

With the new monetary policy committee expected to be in workd by August, DBS Bank expects the RBI to cut rates by another 25 basis points in the third quarter, before entering a phase of prolonged phase of states quo.

Commenting on the new monetary policy committee, DBS says, “It is expected to officially take shape next month. With the statutory backing in place earlier this week, particularly amendments to the RBI Act, the panel is likely to be finalised ahead of the August 9 policy review, according to the press.” (Reuters)

With the new monetary policy committee expected to be in workd by August, DBS Bank expects the RBI to cut rates by another 25 basis points in the third quarter, before entering a phase of prolonged phase of states quo.

“As a base case, we expect another 25bps cut in Q3’16 before the central bank enters a prolonged pause. This presumes good spatial and temporal spread of the ongoing monsoons and pullback from the spike in April-May inflation numbers. External event risks will also be in focus,” DBS Group Research said in a note.

Commenting on the new monetary policy committee, DBS says, “It is expected to officially take shape next month. With the statutory backing in place earlier this week, particularly amendments to the RBI Act, the panel is likely to be finalised ahead of the August 9 policy review, according to the press.”

“This panel will constitute six members, three from the Reserve Bank of India including the Governor and three appointed by the government. In case of a tie, the Governor will retain the casting vote. This marks a departure from the present arrangement under which the Governor makes the final decision on the rates, in consultation with, but not-bound by the inputs of a Technical advisory group. This panel will meet four times a year, with the necessary quorum for each set at four members in each of the meetings. The inflation target will be set by the government in consultation with the RBI once every five years,” it says.

DBS adds, “While the broad contours of this committee have been outlined, few aspects need clarity. One is the timing of its implementation. Press reports suggest August as a likely timeline, implying that the selection committee has largely narrowed down short-listed the candidates. If that does not pan out, with Governor Rajan expected to end his tenure in early-September, the new Governor might be tasked with the transition to the new policy framework with this new committee. Secondly, no change is likely to the framework and structure of the monetary policy framework, including the choice of CPI inflation as the main policy target.”

In DBS’ opinion, the panel’s policy guidance might be influenced by two factors: 1) decision to retain the 4% +/-2% inflation range; 2) the timeline by when this target is expected to be met. Moreover the new Governor and members’ views on the appropriate liquidity stance and range for real interest rates will also guide the panel’s policy leaning.

“Taking cues from other global central banks that work on this model, if these inflation targets are missed, the committee will be expected to detail to the government the reasons for failure, proposed correction action and approximate timeline by which inflation is likely to return into the desired range,” it says.